China Will Launch Yuan-Based Oil Futures Contract, Set to Shake Up Global Market

China is preparing to launch its own yuan-based oil futures contract, a move set to shake up the 96 million barrel-per-day global crude market currently dominated by trading in London and New York.

No official date has been announced for the new contract, but traders and analysts in China say they expect trading in it to begin late this year or in early 2018. Trading will be based at the Shanghai Stock Exchange, which has already conducted five test runs for the new contract, according to its website.

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Uncertainties remain, including the take-up by foreign investors and oil majors. But authorities in China, the world's biggest importer of crude, hope it will provide a benchmark price for oil in Asia that matches the region's voracious demand. A yuan-denominated oil contract could also challenge the role of the United States dollar--currently the dominant commodity-pricing currency--by making it possible for crude exporters to sell the oil in another currency.

Foreign investors will be allowed to trade it, the first time they have been allowed to participate in China's domestic commodity markets without setting up onshore trading operations.

But analysts say it could take time before China's new oil futures challenge the dominance in oil trading of the two current global benchmarks--Brent crude futures, traded in London, and West Texas Intermediate futures, the main U.S. gauge, traded in New York.

China's existing commodities futures markets have become a byword for volatile trading. And Beijing's record of intervening in its domestic markets, such as those for equities, to steer them in its desired direction could arouse wariness among foreign participants.

Pricing the new futures contract in yuan adds an extra slice of currency risk to a commodity whose price can move on news from conflicts in the Middle East to the output of shale producers in the U.S. Major oil market participants, including exporters like Saudi Arabia and Russia and oil companies like ExxonMobil Corp., may be reluctant to use Chinese futures as a benchmark for their crude.

For some, trading oil in China--whose imports account for almost 20% of global crude trade, according to Societe Generale estimates--is still a tantalizing prospect.

"The Chinese have been talking about it forever but they seem very serious this time," said Doug King, chief investment officer of Singapore-based hedge fund Merchant Commodity, after visiting the Shanghai Stock Exchange earlier this year. "It definitely has a lot of potential."

A new major oil benchmark could have a practical impact. Airlines use futures to hedge their exposure to oil-price fluctuations while refineries use them to price the crude they process, ultimately influencing gasoline prices at the pump. Investors, meanwhile, use futures to trade oil as a financial instrument.

Chinese officials first made plans to begin oil futures trading in Shanghai in 2009, according to people involved in the process. In 2014, China's securities regulator issued an approval for the Shanghai International Energy Exchange to conduct crude oil futures trading.

But turmoil struck China's domestic markets in 2015, with a bubble in the country's stock markets spectacularly bursting that summer. A wave of similar speculative bubbles that have inflated Chinese prices for iron ore, steel rebar and soybeans over the past two years further may have partly caused the delay in Beijing's plan to unveil the crude contract, according to Gui Chenxi, an analyst at brokerage CITIC Futures Co.

The introduction of the Shanghai oil contract is part of Beijing's strategy to make the yuan a major international currency, analysts say.

Non-dollar oil trade today is negligible, making up 300-350,000 out of the 82.2 million barrel a day global crude market, according to Societe Generale.

An important factor for many foreign investors will be how China adapts its capital controls to allow them to get their money in and out of the Shanghai market. Mr. King's hedge fund previously had to open a subsidiary on the mainland to trade commodities like soybeans on the local market.

"They say this will be different--this will be key to see any takeup by foreign investors," he said. "If they don't change the rules, the contract will be dead in the water."

Such matters are of little concern for Huang Guanwei, a Shanghai-based investor who once dabbled in iron ore trading. He is eager to make a comeback when the crude oil futures debuts in Shanghai.

"I plan to trade within the first year because typically in China when any commodities futures is launched, there tends to be a one-way direction of price movement," Mr. Huang said.